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A Time to Test Biotechs' Strength

Written by: The Deal08/24/13 - 4:44 PM EDT

Tickers in this article:
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NEW YORK (The Deal) -- Bubbles are colorful, shimmering things. And yet they're ephemeral and can vanish in a moment, leaving behind a sticky residue. The bigger the bubble, the bigger the mess when it bursts.

That's what has some investors in biotechnology companies concerned right now. Biotechs are raking in the dough after a long period in which they were pretty much frozen out of the initial public offering market. Plus valuations are at a high, which, if they deviate too much from the underlying asset's intrinsic value, can create another kind of bubble.

Clearly, the ice that formed following the 2008 banking crisis has melted. In all of 2012, there were 12 health care IPOs, according to IPO tracker Renaissance Capital, compared with 16 in the first half of this year. An additional 15 health care firms had gone public in the early weeks of the second half.

And several of those biotech IPOs have been priced higher than expected, becoming oversubscribed, or soaring in value on the first day of trading.

"The biotechs were generally well received, with an average total return of 36%. Two biotechs, bluebird bio and Epizyme, experienced a first-day pop of over 50% for the first time since 2004," Renaissance Capital said in a second-quarter report. Such a cycle builds upon itself, the report said. "With 16 biotech IPOs completed year-to-date, 2013 is on track to be the most active year in over a decade. We believe the intersection of several industry trends, including an increased number of FDA drug approvals, a rise in risk tolerance among IPO investors, a decline in nondilutive funding from the government, and venture firms' push to liquidate holdings, has driven this revival."

Consider the example of synthetic gene sequencer Intrexon Corp., of Germantown, Md., which began trading on the New York Stock Exchange Aug. 9 under the ticker symbol XON. Sources said it was 15% to 20% oversubscribed and sold 11.5 million shares at $16 apiece, clearing about $160 million. In addition, it traded on its first day up more than 50%, for a new market cap of about $2 billion.